* U.S. non-farm payrolls rise by just 38,000 in May
* Slowest pace of job growth since Sept 2010
* U.S. stocks fall, European shares reverse gains
* June rate hike bets greatly reduced
* Dollar index hits more than 3-wk low
* U.S. 10-yr yields set for biggest 1-day drop since early Feb
* Oil prices fall (Updates to open of U.S. markets; changes byline, dateline, previous LONDON)
By Sam Forgione
NEW YORK, June 3 (Reuters) - U.S. and European shares, the dollar, oil and bond yields dived on Friday after data showed the slowest pace of U.S. job growth in more than five years, dashing most investors' expectations for a Federal Reserve interest rate hike later this month.
U.S. non-farm payrolls rose by just 38,000 in May, the smallest gain since September 2010 and far below an expected 164,000. All 105 economists polled by Reuters had expected a higher number. ECONUS the jobless rate fell three-tenths of a percentage point to 4.7 percent, the lowest since November 2007, that was partly due to people dropping out of the labor force.
U.S. shares sank and European stocks reversed gains. The dollar hit its lowest in more than three weeks against a basket of major currencies, and benchmark 10-year U.S. Treasury yields US10YT=RR hit 1.702 percent, their lowest level in nearly three weeks.
A fall in bank stocks led the decline in U.S. shares, with the S&P 500 financial index .SPSY down 2.06 percent in late morning trading. Europe's auto sector index .SXAP fell 2.27 percent as the euro gained more than 1.6 percent against the dollar.
"This was a shocking miss," said Mark Grant, fixed income strategist at Hilltop Securities in Fort Lauderdale, Florida, on the U.S. jobs report. "I think this puts into serious question if the Fed is going to do anything for the year (in terms of rate hikes)."
MSCI's all-country world equity index .MIWD00000PUS was little changed, adding just 0.76 point, or 0.19 percent, to 403.25.
The Dow Jones industrial average .DJI was down 81.94 points, or 0.46 percent, at 17,756.62. The S&P 500 .SPX was down 13.06 points, or 0.62 percent, at 2,092.2. The Nasdaq Composite .IXIC was off 44.52 points, or 0.9 percent, at 4,926.85.
Europe's broad FTSEurofirst 300 index .FTEU3 was down 0.88 percent at 1,339.04 after gaining around 0.7 percent before the U.S. jobs data.
The plunge in U.S. 10-year yields was on track to mark the biggest one-day fall since early February, while U.S. two-year note yields US2YT=RR were on track for their biggest one-day tumble since last September.
Fed funds futures, based on the CME Group's FedWatch, moved to price in a 4 percent perceived chance of a June rate hike after the U.S. jobs report, from 21 percent late Thursday.
The dollar index, which measures the greenback against a basket of six major currencies, was last down 1.52 percent at 94.107 after hitting a session low of 93.986 .DXY .
"People were positioned for the idea that this was going to be a good enough number for the Fed to move forward in June, and now they have to adjust," said Kathy Jones, chief fixed income strategist at Charles Schwab (NYSE:SCHW).
The U.S. jobs numbers also weighed on oil prices.
Brent crude LCOc1 was last down 41 cents, or 0.82 percent, at $49.63 a barrel. U.S. crude CLc1 was last down 41 cents, or 0.83 percent, at $48.76 per barrel.
Gold surged more than 2 percent and was on track for its biggest one-day jump in more than a month.